Brace for Big Drop If Gold Breaches This Level

Gold bounced back on Monday from a drubbing that sent the precious metal to a six-month low late last week, however, analysts say further upside is dependent on whether gold can hold on to a key support level over the next few days.

"I think today (Monday), because we've had a relatively good bounce back, the market will focus on $1,600 and the ability for gold to trade through $1,630 will be quite critical," said Jonathan Baratt, founder of the commodities newsletter Barratt's Bulletin, referring to $1,600 as an important psychological level.

"If it doesn't do that over the next few days, we would look for lower prices," he said.

Gold was trading at about $1,613 an ounce in Asia on Monday, up from a six-month low of $1,598 on Friday. Analysts say the precious metal has been hurt by a general move into riskier assets, notably equities as confidence about the global economic outlook grows.

In addition to that, regulatory filings showing that some of the world's most well-known investors, such as George Soros, withdrew tens of millions of dollars out of gold funds in the final quarter of 2012 have weighed on gold prices, which are down about 4 percent since the start of the year.

Nick Trevethan, a senior commodities strategist at ANZ Research in Singapore, added: "If we remain stuck between the $1,600 level and $1,617/20 area and don't move out above that, then we're likely to test the downside again."

And on the downside, gold could move to $1,530, the lowest level hit last year. "There is nervousness from investors after 12 years of gains. We are sitting just above key support levels at $1,530," Andrew Su, CEO of Compass Global Markets in Sydney told CNBC Asia's "Squawk Box."

"If it approaches these levels, people will bail out of long-positions and we will see a longer, sustained fall in gold," he added. "There is a good chance that gold will head lower. What we're seeing is a reaction to a big move into equities and from Soros Management that it sold a lot of gold."

A move to $1,530 would imply a fall of about 5 percent from current levels.

Fund Watching

Demand for physical gold from China and India was expected to lend some support to gold prices and indeed buying from China was cited as a reason for the recovery in prices on Monday.

Big gold funds were also being watched closely for any significant downsizing in their holdings as investors start to turn bearish on gold. Citigroup said last week that gold was in the process of peaking, while on Twitter, Marc Faber, author of "The Gloom, Boom & Doom Report" said that the correction in gold prices was not quite complete.

"The biggest long-term bulls on gold such as the John Paulson fund appear to be holding steady for now," said Trevethan.

Paulson & Co, the investment vehicle of billionaire investor John Paulson, owned 21.8 million shares in the world's biggest gold-backed exchange-traded fund, the SPDR Gold Trust, at the end of December, unchanged from September 30, according to a filing last week with the U.S. Securities and Exchanges Commission.